government opens fdi tap for ‘financial services’ under automatic route
TRANSCRIPT
Vol. 12 Issue 10.2 October 7, 2016
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Government opens FDI tap for ‘financial services’ under automatic
route
In his Budget Speech on February 29, 2016, the Finance Minister had indicated that
“Foreign Direct Investment (“FDI”) will be allowed beyond the 18 specified Non-
Banking Finance Companies (“NBFC”) activities in the automatic route in other
activities which are regulated by financial sector regulators.” The Union Cabinet
subsequently approved an amendment to the regulations relating to FDI in NBFC in
August 20161, although no details were published.
On September 9, 2016, the Reserve Bank of India (“RBI”) issued a notification2
(“Notification”) which contains the relevant details and introduces required
amendments to the Foreign Exchange Management (Transfer or Issue of Security by
a Person Resident outside India) Regulations, 20003 (“FEMA 20”) in this regard.
We have summarized below, the key changes that have been introduced by the
Notification.
Particulars Old position After the Notification
Permitted
sectors
18 specified sectors namely:
i) merchant banking
ii) under writing
iii) portfolio management
services
iv) investment advisory
services
v) financial consultancy
vi) stock broking
vii) asset management
viii) venture capital
ix) custodian services
x) factoring
xi) credit rating agencies
xii) leasing and finance
xiii) housing finance
xiv) forex broking
xv) credit card business
xvi) money changing business
xvii) micro credit
xviii) rural credit
Freely permitted in any
activity for which a
registration is required with
the RBI, Securities and
Exchange Board of India
(“SEBI”), Pension Fund
Regulatory and
Development Authority
(“PFRDA”), National
Housing Board (“NHB”) or
any other financial sector
regulator as notified by the
Government of India.
FDI also permitted in
activities which may not
require registration with a
designated regulator,
although all such
investments will require
prior approval of the Foreign
Investment Promotion
Board (“FIPB”). While
granting such approvals, the
Government may stipulate
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such conditions as it may
consider appropriate
including minimum foreign
investment required
Minimum
foreign
investment
requirements
Was a function of:
(i) Nature of activity, ie
whether fund-based or
non-fund-based; and
(ii) Level of foreign ownership
The minimum foreign investment
requirement for investment in a
non-fund based activity was USD
500,000; this was regardless of
the level of foreign ownership in
the Indian company.
For activities that were classified
as fund-based, the minimum
foreign investment requirement
was as below:
- USD 0.5 million for foreign
capital up to 51 percent
- USD 5 million for foreign
capital more than 51 percent
and up to 75 percent
- USD 50 million for more than
75 percent
No minimum investment
requirements prescribed;
minimum investment may
be specified by concerned
regulator/ government
agency
Downstream
investments
In cases where foreign ownership
in the parent NBFC was 75
percent or lower, step down
subsidiary was also required to
meet minimum foreign investment
requirements (as discussed
above)
No minimum investment
requirements prescribed
BMR Comments
FDI policy has been one among the various areas that the Government has
been targeting to ease doing business in India and to encourage long term
investments. This is the third major relaxation in FDI norms since November
2015. In November 2015, sectoral caps in select sectors such as defence,
construction and development, retail, broadcasting, civil aviation, banking and
manufacturing were enhanced and the need for prior investment approval was
dispensed with in certain situations (for details, refer our BMR Edge dated
November 23, 2015 – ‘Progressive reforms measures rolled out to the Foreign
Tier 2 firm in International Tax Review,
World Transfer Pricing 2016 Guide
2015:
Tier 1 firm in International
TaxReview,World Tax 2015 Guide to
World’s Leading Tax Firms for the eighth
consecutive year
Tier 2 firm in International Tax Review,
World Transfer Pricing 2015 Guide
Ranked No.1 & No.8 (by deal count) Most
Active Transaction Advisor for M&A and
PE deals by Venture Intelligence
Mukesh Butani, New Delhi
+91 11 6678 3010
Rajeev Dimri, New Delhi +91 124 669 5050 [email protected]
Gokul Chaudhri, New Delhi
+91 124 669 5040
Bobby Parikh, Mumbai
+91 22 6135 7010
Amit Jain, Pune +91 20 668 19010 [email protected]
Kalpesh Maroo, Bengaluru
+91 80 4032 0090
Bobby Parikh
Parul Jain
Amit Bablani
Vignesh Iyer
Direct Investment Policy’). Subsequently, in June 2016, the Government
announced further changes in FDI norms across nine key sectors including the
raising of permissible FDI ownership in defence, aviation and the food
processing sectors (for details, refer our BMR Edge dated June 21, 2016 -
‘Further liberalisation in FDI regime – most sectors now under automatic
route’). These reforms, coupled with other efforts of the Government have
raised FDI flows into India from USD 45.15 billion in 2014-15 to USD 55.46
billion in 2015-16.
While the present step is progressive, the manner in which the policy revision
has been implemented raises some concerns which did not previously exist,
and also leaves some matters unaddressed.
Overall observations
The FDI policy construct permits foreign investment in all sectors unless
there are explicit prohibitions. Further, where it considered it necessary, the
Government permitted FDI in certain sectors subject to conditions that were
prescribed. The current amendment is progressive to the extent that it does
away with enumerating financial services activities eligible to receive FDI
and instead, freely permits FDI in all regulated activities. However, where it
seems to depart from the overall FDI policy construct is by stipulating that
FDI in financial services activities that are not regulated will require prior
Government approval. If financial sector regulators do not require a
particular financial services activity to be subject to prior registration
requirements, it is unclear why the Government should subject FDI in such
activities to a prior approval requirement. From a policy perspective, it is the
sector regulators who are best placed to monitor developments in the
sector, and to regulate activities as they consider appropriate to serve the
required public policy objectives. It is unclear why the Government should
seek to serve as a monitor for the financial services sector and seek to
regulate FDI in the sector. Prior experience suggests that such formulations
contribute to uncertainty and ambiguity, something that the Government is
otherwise striving to mitigate if not eliminate.
Investment managers and advisors
Investment advisors (“IAs”) rendering services to offshore funds (or other
clients based outside India) are specifically exempt from seeking registration
under the SEBI (Investment Advisors) Regulations, 2013 (“SEBI IA
Regulations”). A number of investment advisory entities established and
operating in India have varying levels of foreign ownership. So far, FDI in
such entities was permitted freely and required no prior approval; the activity
was regarded as non-fund based, and 100 percent foreign ownership was
permitted subject to a minimum foreign investment of USD 500,000. After
the Notification, it appears that FDI in IA entities will require prior
Government approval since IA entities are not required to register with any
of the notified sector regulators.
While Alternate Investment Funds (“AIFs”) are duly regulated by SEBI, the
investment manager (“IM”) to such AIFs, although indirectly regulated by
SEBI under the SEBI (Alternate Investment Funds) Regulations, 2012 (“AIF
Regulations”), are not required to be registered with SEBI separately. If the
Notification were to be followed literally, FDI in an entity which would operate
as the IM of a SEBI-registered AIF may require prior Government approval,
which is not presently the case. A similar situation may also arise with
regard to FDI in an entity which manages a SEBI-registered mutual fund. In
our view, this is unlikely to have been the Government’s intention while
formulating the revised FDI norms.
1 As confirmed by a Press Release dated August 10, 2016 issued by the Press Information Bureau
2 Foreign Exchange Management (Transfer or Issue of Security by a Person Resident outside India) (Thirteenth
Amendment) Regulations, 2016, No FEMA 375/ 2016-RB
3 FEMA 20/2000-RB dated May 3, 2000 [GSR 406(E) dated May 3, 2000] as amended from time to time
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